CFTC’s Chilton to Fed: Cut banks’ ties to commodities

The Federal Reserve should reverse its policy of allowing investment banks to own metals warehouses and commodity infrastructure assets, a top U.S. derivatives regulator said on Monday.

Banks potentially have a conflict of interest when they trade commodities while also controlling supply, said Bart Chilton, a Democratic member of the Commodity Futures Trading Commission.

“The Fed should do this, and if they don’t, Congress should,” Chilton said in an emailed statement ahead of a speech scheduled later in the day.

The commodity business also provides a possible loophole for banks to dodge the Volcker rule, a piece of U.S. legislation that will ban banks from gambling with their own money, once it comes into force, Chilton said.

He has written a letter to Federal Reserve Chairman Ben Bernanke to urge that the final rule explicitly made clear that banks could not speculate in commodities.

Owning physical commodities blurs the dividing line between commodity speculation – which the Volcker rule bans – and hedging, which is allowed, Chilton said.

A final version of the rule, which five different regulatory agencies are working on, is expected later this year.

Wall Street banks are under increasing pressure from U.S. politicians and consumers to part with their commodity operations, after years of complaints about inflated prices during the 2000s commodity boom.

Brewing companies complained last month before Congress that banks were pushing up the price of aluminum, which is used in beer cans, by delaying delivery times and creating long queues for the metals warehouses they own.

Also last month, the Federal Reserve unexpectedly said it was reconsidering the 2003 decision that first allowed Wall Street banks to trade in physical commodities, as opposed to commodity derivatives.

The CFTC, while not directly overseeing physical commodity markets, has the authority to police derivatives for fraud, manipulation and other abuses, the agency’s chairman, Gary Gensler, said in a Senate hearing last week.

An outspoken member of the five-member commission, Chilton is often critical of Wall Street, and even fellow Democrats do not necessarily share his views.

Still, the CFTC has put large investment banks on notice for a possible investigation of their metals warehousing businesses, 7Reuters reported last month.

The Fed, which oversees large banks, said last month it was “reviewing” its 2003 decision that permitted Citigroup Inc’s (C.N) Phibro unit to trade oil cargoes, setting a precedent for a dozen more banks that followed suit.

Since then, JPMorgan Chase & Co (JPM.N) announced its exit from commodities trading, while Goldman Sachs Group Inc (GS.N), which has been looking to sell its warehouses, offered customers immediate access to aluminum it stores.

And on Sunday, the London Metal Exchange and Goldman Sachs were named as co-defendants in a U.S. class-action lawsuit alleging anticompetitive behavior in aluminum warehousing.